The Power of Distribution
Consider some of the recent activity in the Indian ecosystem — PayTM expanding into travel and wealth management, Google launching and rapidly scaling Tez and Datally or Jio’s multiple applications vying for users. Many of these seemingly disparate strategies make more sense when viewed through the lens of distribution businesses. As our digital economy matures, many future actions will be guided by this thinking as well.
You should care about understanding distribution businesses and their strategies if a) you’re building a business that will become a distribution platform such as WeChat or Zenefits, b) you want to build moats to ensure that your business is immune to competition from players owning distribution, or c) you want to tap into these potentially massive channels to increase your own customer base.
Some of the areas we’re going to discuss include what exactly distribution means, typical paths companies have followed to build up such businesses, the current state and future of the Indian ecosystem and what this means for entrepreneurs and investors.
What is distribution?
Intuitively, we think business sell ‘things’ to ‘customers’. These ‘things’ could be goods (physical such as groceries or digital like software) or services (e.g. cooking, accounting). On the other hand, television and newspapers are examples of traditional business where the ‘customer’ isn’t really paying with money but paying with attention. The real customers (or financiers) end up being advertisers.
Owning distribution means you have direct reach and touch points with a consumer. The real power of owning distribution is that businesses can exploit their user base to create additional revenue streams, even giving away the original ‘thing’ for free. While this has been relevant in the physical world (e.g. Walmart leverages its footprint to sell high margin private label goods and even seek rent from third parties wanting to leverage its reach), it is significantly more powerful in the digital world. Technology significantly reduces the cost and effort required to create additional revenue sources. Many technology business ‘switched on’ revenue sources quite rapidly — e.g. Google with ads or PayTM with flight and ticket bookings.
How has it usually worked?
Though a number of technology companies have tried to build such businesses there are primarily 3 successful archetypes of a distribution player (see table).
Social / content first — Tencent gained distribution with a focus on chat (QQ, WeChat) and later games. Their expansion into payments also revolved around social use cases (e.g. gifting money through Red Envelopes on WeChat) before becoming a full-blown payments, products and services ecosystem.
Discovery first — Google took a different route and aimed to be the “discovery” or entry point into the internet on mobile as well. Google’s most popular services (Search, YouTube, Android) are all free entry (or discovery) points for the internet.
Transactions first — Alibaba exploited its position as an intermediary in online transactions to build out AliPay as a juggernaut with over 800 million accounts and a slew of financial services. In parallel, to own a larger chunk of users’ online time, Alibaba expanded into content through acquisitions (e.g. UC).
High and broad use-case based engagement or deep involvement in transaction flows seem to be requirements to successfully leverage distribution. Other paths include utilities first (e.g. Truecaller, ShareIt) but they’ve faced challenges expanding beyond narrow uses/working in the background. Similarly, carriers have often failed to leverage their customer base into services customers (Jio is trying to do this with the added advantage of targeting users potentially not locked into other ecosystems).
How has this played out across markets?
In China, Baidu, Alibaba and Tencent have used their monopolies in their core verticals to build competing ecosystems across verticals leading to an ecosystem with multi-vertical consolidation across 3 major giants. They have succeeded at this for multiple reasons — large engaged audiences, significant profit pools, speed of execution and captured consumers unfamiliar to the internet early (and becoming a gateway to internet for them).
Interestingly, the US is dominated by vertical monopolies — few players have expanded beyond their core use cases. This could be for multiple reasons — vertical monopolies formed before distribution players reached scale, product companies are hesitant to build offline operations, cultural opposition to copying or the large market size within verticals but that is a discussion for another post.
The Indian ecosystem is relatively nascent and still fragmented (see table — for more detail you can refer to this sheet). I believe the end state will likely be a middle ground between vertical monopolies and multi vertical conglomerates. India has a mix of relevant characteristics from the Chinese and American ecosystems but the present lower paying capacity means scaled out players will definitely expand into other verticals to create significant revenue scale.
What does this mean for the Indian startup ecosystem?
Firstly, there is significant fragmentation — with very few clear victors (beyond Android and WhatsApp). Moreover, a number of audiences have not yet been captured. Some untapped segments that come to mind include the Next Billion, small unorganised business (which number over 15 million) and even mid-sized organised businesses. Moreover, these new battlegrounds have unique and very Indian needs which gives a huge leg up to hands-on teams that can truly build for India.
Secondly, there are a number of use-case gaps in the ecosystem. Gaming, video discovery, personalized news aggregation, livestreaming, financial services (wealth management, insurance etc.) are all sub-scale verticals in India that could be entry points to eventually owning distribution or be additional revenue sources for larger players. Distribution giants will expand into these areas — core areas will usually be covered organically while they will acquire their way into non-core areas.
Thirdly, scaled Indian players are increasingly looking to open up new revenue taps e.g. Zomato launching delivery and Flipkart getting into credit which reiterate the importance of thinking through moats deeply while creating a business. These moats will vary — Swiggy might have network effects and delivery speed while Bajaj Finserv may have data network effects, but they will increasingly be at the center of the conversation. Interestingly, these expansions also showcase the importance of distribution which could catalyze entrepreneurs and investors to look into unique distribution based opportunities (e.g. commission-free marketplaces, or free software targeting business customers ).
Lastly, understanding distribution channels will be increasingly important for startups to grow. A number of users might not be Google/Facebook-first in the future and it will be essential to go through other channels — these could include obvious choices such as Jio, TIL, Sharechat, UC or even mobile phone recharge shops side-loading apps for their customers.
There are of course a number of uncertainties but one thing is for certain — the next 5–10 years will define the building blocks of the Indian internet economy.
If you’re building one of the above archetypes (or some that we haven’t thought of yet), or a business that is defensible when these players look to capture your market, we would love to talk to you — get in touch at dev@lsip.com or ishaan@lsip.com
This post has been authored jointly with Dev Khare.
